A blog dedicated to my obsession with buying in the Sacramento housing market

Tuesday, March 11, 2008

A Taxing Debate

As an ENFP I tend to be very idealistic......so please forgive the rather naive discussion below. I must be missing some crucial piece of information because the "tax argument" for purchasing a home isn't very persuasive.

We just completed our taxes for this year. It was our first full year in California, and our first full year as married renters with two jobs (we had rented while married previously, but my husband was attending college full-time). We are now at a point where our income is such that we don't qualify for many deductions anymore (except for our two little munchkins of course). So needless to say our tax bill was larger than in past years (the state was what really got us).

Getting to the issue at hand......the "tax benefits" of owning a home are often cited as a reason to buy versus rent. But I have always felt this is a misconstrued argument. For one, you have to pay a lot more in taxes and mortgage interest than your actual deduction. So the "its tax deductible" argument only goes so far in my book.

In all honesty it seems like a big shell game to me. Instead of paying county property taxes, and lining shareholder pockets with the interest on your mortgage, you are paying higher federal and state taxes. I know some have a visceral reaction to paying anything that smacks of a tax, but is paying interest on your mortgage that much more appealing? At least with taxes, in theory the money is being put toward the common good.

Once home prices come down, we will find a middle ground between the two extremes. In theory we will pay less interest and property taxes (since our loan amount will be lower), but federal and state taxes will be higher since we will have less to deduct.

In any case, buying a home for the tax deductibility, seems to be a false argument because those tax benefits are offset with many other costs, such as homeowners insurance, property taxes and maintenance.

12 comments:

Although for some folks, the tax deductible portions of home ownership might reduce their effective tax rate or lower their taxes paid, it will not in and of itself (in my opinion), make a bad investment choice profitable. If someone truly was buying a home for the purpose of tax savings, they should be buying a house to rent out to others, rather than for their own occupancy. That way, they can deduct virtually all of the costs and the depreciation. Of course, in our area, many sophisticated investors have shied away from rental housing in recent years because the numbers didn't work, even with tax savings.

When I plug a hypothetical tax savings into a homeownership spreadsheet, owning versus renting I still lose money owning (vs. renting) the same home I currently live in (based on 2008 prices). However, the loss is getting much smaller as home prices decline, and I expect will move in favor of owing, this year.

The primary benefit of homeownership is appreciation, and that requires a long time frame and an appreciating market. The tax savings are probably good for people who are taxed at the 28% rate, but becomes less useful for lower-income people. That's why the majority of the benefit goes to higher-income taxpayers. (Remember that 70% of the population takes the standard deduction, rather than itemizing.)

The one thing you forgot to consider is the control issue. I can always pay my loan off sooner, thus depriving the lender of interest income. With taxes, the only option is jurisdiction shopping (which is why so many retirees move to Nevada; no income tax).

The idea that the government can spend the money better than I can is a joke prima facie.

Don't look at me. I'm a bleeding heart as well but would never expect the gub'ment to look at out for our unpriviledged. Look to them for photo ops and squeeze every penny out of them, that I'll believe.

I say this as someone who takes working for the public very seriously. My idealism gets a little more dented every day.

BT, you're absolutely right about the "supposed" tax advantage of owning a home. The tax deductibility of mortgage interest and property taxes should be viewed as a subsidy that slightly reduces the costs of those expenses. So, if your mortgage rate is 6%, the tax advantage will effectively decrease it to something like 4%, but you're still paying a load of interest on that mortgage over time.

Plain and simple: it's expensive to live on credit, whether you get a tax deduction or not. We accelerated the payoff on our last mortgage (to 15 years) and intend to do so again.

The advantage of being able to write off interest on other types of loans through HELOCs, etc. is another red herring. Pay cash for your cars and keep them 10+ years, that's the way to save money on cars. Better yet, try to not rely on a car so much.